Italy heads for snap poll as markets watch

Italy is heading for early elections amid growing international concern over the political crisis, prompted by the former Prime Minister Silvio Berlusconi's withdrawal of support for Mario Monti’s technocratic government last week. Monti announced on Saturday (8 December) that he intends to resign once the next budget is approved.

European Commission president Jose Manuel Barroso said Italy remained at risk of renewed financial upheaval, despite months of improving market confidence.

"The next elections must not serve as a pretext for putting in doubt how indispensable these measures are," he said. "The relative calm on the markets does not mean we are out of the crisis."

Monti, a 69-year-old former European commissioner, unexpectedly struck back against Silvio Berlusconi's People of Freedom (PDL), after meeting Italian President Giorgio Napolitano. He said he would resign after the 2013 budget is passed.

The vote was already scheduled by April's end and Monti's move will likely bring it forward to February. But the move may unnerve markets, especially as Berlusconi has announced his intention to seek a fifth term as prime minister.

Berlusconi will not make it: Polls

Berlusconi was forced to resign during a ballooning eurozone debt crisis while his government put off needed reforms, amid a sex scandal involving pole-dancing prostitutes at his "bunga bunga" parties.

Opinion polls give the 76-year-old billionaire little chance of success, with the centre-left Democratic Party (PD) under Pier Luigi Bersani appearing the only realistic alternative. But the campaign could renew uncertainty about Italy's commitment to reform.

Monti will remain as caretaker prime minister until the next government is sworn in, which could be as late as March.

Monti’s intentions are unknown. Ferruccio de Bortoli, editor of Corriere della Sera, Italy’s leading daily, wrote on Sunday after speaking to Mr Monti: “It is clear that he feels free to decide. He is thinking of it. Many are pushing him to make a move.”

Uncertainty undermines confidence?

Meanwhile, political uncertainty could darken market moods. The main barometer of investor confidence, the yield on the 10-year Italian government bond, stood at 4.5% at the end of last week.

That was 323 basis points higher than the yield on the lower risk German equivalent, but well below the 7.3% peak hit last year when the spread with German Bunds hit 550 points.

Erik Nielsen, chief economist of UniCredit, a leading Italian bank, told the Financial Times that he expected a sell-off of Italian assets when markets opened on Monday, followed by pressure leading to a debt auction on Thursday [13 December], and volatility over the next two months.

Bersani has promised to stick to promises on fiscal discipline made by the current government to its European partners. He has also said that Monti is likely to continue playing a role after the election.

Monti came to power at the height of the financial crisis a year ago and was widely credited with restoring Italy's credibility with investors and European partners after the scandal-plagued Berlusconi era.

In Cannes over the weekend, Monti tried to reassure Italy’s European and international partners that he does not foresee any undoing of his reforms, despite the growing resentment at his tax increases and spending cuts. But he said he was concerned at the rise of populism and “illusory promises”, a veiled reference to Berlusconi and the anti-establishment Five Star Movement, which is ahead of the PDL in some polls.

Background

Italy's mix of chronically low growth, a public debt mountain of €1.84 trillion, or 120% of GDP, and a struggling governing coalition are causing growing alarm on financial markets.

The country, which has been politically unstable for years, would need at least €600 billion in the case of a bailout, more than the balance of the eurozone's current bailout fund.

Prime Minister Mario Monti, when he took office one year ago, signed up to predecessor Silvio Berlusconi's goal of balancing Italy's budget by next year.

Challenges to that target have grown, however, as the €30 billion austerity plan that Monti rushed through at the end of last year, made up largely of tax increases, is partly to blame for this year's recession, which has in turn worsened the outlook for public finances.

In November, the OECD warned of the need for further austerity measures to balance the budget. Italy responded that it would reach a balanced budget in structural terms in 2013 and 2014, as the government had committed to do, and as is required by the EU.

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